• GSK Consumer recorded slower 8% yoy growth in revenues at Rs9.2bn – below our expectations at Rs9.8bn during Q1 FY15, driven by modest 9% yoy growth in HFD portfolio

• Domestic sales grew by 10% yoy however exports declined by 24% yoy due to certain one-offs and slowdown in Bangladesh economy

• Operating margin declined by ~40bps to 17.9% due to sharp 320bps increase in raw material cost on account of sharp rise in milk and milk powder prices

• Net profit increased by ~8% yoy to Rs1.3bn - in line with our expectations. Recommend Accumulate with a 9-month target price of Rs4,945

Q1 revenues miss expectations

GSK Consumer recorded slower 8% yoy growth during Q1 FY15 at Rs9.2bn (below our expectations of Rs9.8bn), driven by 9% yoy growth in the HFD portfolio and 32% yoy growth in foods segment. Domestic business reported mere 3% underlying volume growth (7% in Q5 FY14). Exports however declined by 24% yoy due to certain one-offs and slowdown in Bangladesh economy.

The Malted beverages category which had not seen a significant slowdown until now has started witnessing the impact. Given this, the company is aggressively growing its sachets business (contributing ~5-6% of HFD sales) to fuel volume growth. Volume growth in jars is likely to be flat. GSK has also re-launched Mother’s Horlicks, Horlicks Lite and Chocolate Horlicks during the quarter. With the expansion of its product range in Oats segment, GSK now ranks second in Oats category and enjoys ~17% market share in southern markets. The company has entered in Osteo calcium segment and is expecting revenues of Rs650-700mn in FY15.

Higher raw material cost pulls down operating margins

Operating margins declined by 40bps to 17.9% due to sharp ~320bps increase in raw material cost on account of sharp rise in milk & milk powder prices. 80bps/80bps/70bps decline in advertising / staff and overhead cost restricted further margin erosion. The management guided that adspend in FY15 would remain in the range of 15-17% of net sales.

Net profit matches expectations records modest ~8% yoy increase

Net profit increased by ~8% yoy to Rs1.3bn - in line with our expectations. The growth could have been even better but for higher operating costs and tax outgo. Business auxiliary income (includes business income and cross-charge received on account of OTC products sold on behalf of GlaxoSmithKline Pharmaceuticals Ltd) grew by 18.8% yoy to Rs444mn (Q2 CY14 – Rs374mn). The management has guided business auxiliary income to grow at ~20% on steady state basis. Non-operating income increased by ~19% yoy to Rs458mn.

Capex plans

The management plans to go for Greenfield capacity expansion as currently all its plants are running at full capacity levels. The company is holding high amount of cash on its books (Rs18bn) as it plans to carry out such Greenfield expansion every three years. The company expects to incur Rs7-8bn as capex every 2-3 years to increase capacity.

Recommend Accumulate

With zero debt on its books and operating cash flows of ~Rs3-7bn per annum, GSK is a cash-rich company. Low penetration levels in the core Malted Food Drinks category will provide surplus headroom for growth for GSK. The management has guided ~15% p.a. sustainable growth for the malted food category driven by 7-8% volume and 6-7% value growth. However, we believe firm input prices and requirement of higher adspend due to rising competition will keep margins under check. At the current market price of Rs4,873, the stock is trading at 29.6x FY16E EPS of Rs164.8. We recommend Accumulate rating on the stock, with a revised 9-month target price of Rs4,945.